At the most recent meeting of the Lead Director Network (“LDN”), LDN members and general counsel (“GC”) guests met with Andrew Ceresney, director of the Division of Enforcement (the “Division”) at the U.S. Securities & Exchange Commission (“SEC”). On December 7, 2015, King & Spalding and Tapestry Networks published a ViewPoints report providing highlights of the discussion at the meeting.
Mr. Ceresney’s discussion focused on two main topics: SEC enforcement priorities and the SEC’s cooperation program.
SEC Enforcement Priorities
LDN members and guests discussed with Mr. Ceresney three particular areas where the SEC’s Enforcement Division has pursued high-profile cases related to public companies:
- Financial reporting. Mr. Ceresney said that financial reporting remains an SEC enforcement priority, notwithstanding the progress made by companies on this front since the passing of the Sarbanes-Oxley Act. For example, in September 2015, the SEC charged audit firm BDO USA and five of its partners with “dismissing red flags and issuing false and misleading audit opinions” related to a company’s financial statements. The SEC also charged a number of the company’s executives with making materially misleading statements or omissions.
- Foreign Corrupt Practices Act (FCPA). While the FCPA has been the focus of the SEC and other governmental authorities for years, Mr. Ceresney emphasized that new industries, such as financial services, have become targets of FCPA investigations.
- Insider trading. Mr. Ceresney noted that while the recent Newman decision (in which the Second Circuit Court of Appeals held that certain tips were not unlawful because the tippers did not receive sufficient personal benefit) adjusts the standard of proof for certain insider trading cases, it does not radically reshape insider trading law.
Mr. Ceresney also discussed the policies and priorities that guide the SEC’s Enforcement Division, including the following:
- Individual defendants. In September 2015, Deputy Attorney General Sally Yates released a memorandum highlighting the Department of Justice’s focus on prosecuting individual executives, and not just corporate entities. Mr. Ceresney confirmed that individuals are also a focus for the SEC. Mr. Ceresney added that the SEC’s Enforcement Division engages in separate settlement talks with corporations and their employees, rather than negotiating omnibus settlements.
- Gatekeepers. The SEC’s emphasis on individual liability includes a closer look at the role of gatekeepers in circumstances involving fraud. Lead directors raised concerns about the prospect of holding non-executive directors – who are structurally removed from management and daily operations – personally liable for failure to discover fraud at their companies. Mr. Ceresney told directors that when faced with difficult decisions they should solicit and follow the advice of experts but they do not need to be experts.
- Appropriate penalties. Some lead directors and GCs expressed concern that the SEC appears overly focused on assessing record-setting disgorgement and penalties. These lead directors and GC’s added that these penalties often appear as “piling on” from the standpoint of shareholders who bore the brunt of the underlying misconduct. Mr. Ceresney explained that the SEC considers the impact of penalties on shareholders, but balances this against the need for deterrence. Mr. Ceresney further noted that penalties do not fall solely on shareholders, because companies often make adjustments to compensation, targeted or otherwise, in the wake of an SEC settlement.
- Resolving cases in a timely manner. Lead directors and GCs were troubled by SEC investigations that linger for long periods without resolution. Mr. Ceresney agreed with this viewpoint, stating “Pace is important. There is a greater deterrent impact when we bring an action quickly. Likewise, if we aren’t going to bring an action, our desire is to close the case. Sometimes, there are good reasons why we can’t close matters, even if the reasons are not entirely apparent at the time.”
The SEC’s cooperation program
The other focal point of the meeting was the SEC’s cooperation program, which began in 2001 with the SEC offering formal credit to companies that cooperate with the SEC and generally demonstrate good corporate citizenship. The cooperation program was expanded in 2010 to cover individuals. Under the SEC’s program, corporate cooperation is evaluated according to four categories: (1) self-policing prior to the discovery of misconduct; (2) self-reporting of misconduct when it is discovered; (3) remediation to prevent recurrence of misconduct; and (4) cooperation with law enforcement.
At the meeting, one GC asked Mr. Ceresney whether companies “really get rewarded for self-reporting.” Mr. Ceresney said that companies get substantial benefits, and he provided examples of cases in which self-reporting led to penalties that were well below those levied in similar cases where there was no self-reporting. He added that it is sometimes difficult to demonstrate the benefits of self-reporting because the SEC does not (and companies would not want the SEC to) disclose what the penalties would have been had they learned about the case in some other manner. Other lead directors and GCs said that the SEC’s emphasis on self-reporting has turned what was once a difficult choice into a de facto requirement. Mr. Ceresney emphasized that the decision to self-report should not be difficult for a board or GC that learns about unlawful conduct.
Lead directors and GCs also asked at what stage of an investigation cooperation should begin. One GC described the challenge as follows: “The facts are often not that clear, certainly early in the investigation. The company might believe there is not a violation. Do we need to alert you as soon as we launch an internal investigation?” Mr. Ceresney responded, “We don’t expect you to pick up the phone immediately, but we do expect you to report when you have some indication of wrongdoing. We have no problem with advocacy. It is fine if you tell us the facts, then claim you are innocent. I am confident that after our investigation, we will make a decision based on the facts.” However, he cautioned, “We live in a different world with the Dodd-Frank whistleblower program. If you don’t tell us right away, you are gambling, because someone else might tell us first.”
The full report from the Lead Director Network is available here